NEW YORK, March 8 (Reuters) - The euro slipped versus the dollar for a second day on Tuesday as investors debated what the outlook for higher euro zone interest rates will mean for peripheral euro nations already struggling with fiscal problems.
The euro had climbed above $1.40 in the days after hawkish comments from European Central Bank President Jean-Claude Trichet after a policy meeting last Thursday.
But on Monday Moody's slashed Greece's debt rating by three notches and kept it on review for a further possible downgrade [ID:nLDE7260D6]. That followed Fitch downgrading Spain's ratings on Friday [ID:nLDE7230QU].
Those announcements brought the sovereign debt problems of some euro zone nations back to the fore and pushed investors to consider that while higher borrowing costs may be good for the underlying currency they will not be good for the nations that have to borrow.
"The problem with the interest rate driven trade and Trichet's hawkish comments is that you have to see the other issues behind it," said John McCarthy, director of foreign exchange at ING Capital Markets in New York. "Higher rates will be devastating on the peripheral countries."
An early slide in oil prices encouraged investors to pare back long positions in the Swiss franc -- which has gained broadly from safe haven buying throughout the political uprising in Libya. The dollar jumped as much as 1 percent against the Swiss franc .
The euro fell 0.6 percent to $1.3888, extending a retreat from a four-month high of $1.4036 hit on Monday. Traders said stop-loss orders were triggered on the break of $1.3940 and $1.3925 and possibly $1.3885.
However, traders said buying by sovereign accounts helped to cap the euro's losses, while options expiries due at 1500 GMT, including at $1.3900, $1.3990 and $1.4000, may keep it hemmed.
"We're seeing continued euro/dollar selling from the real money community. It feels like the market wants to target 1.3880-1.3850," a London-based trader said.
Following a break of the $1.3862 February peak, the next technical level is $1.3830, the low hit on Thursday before Trichet's hawkish comments. Then the euro could be heading towards $1.35 though investors say the euro is still supported by expectations the ECB may raise interest rates next month.
Euro zone countries are ironing out measures to resolve the region's debt crisis in time for a European Union summit on March 24-25. They will meet at a preliminary summit on Friday and any sign leaders are struggling to reach a consensus on a debt rescue fund could trigger more profit taking in the euro.
"We have constructive expectations for reform of the EU financial stability fund. If those aren't realised, we could see negativity on the euro in the short term," said Carl Hammer, currency strategist at SEB in Stockholm.
SWISSIE STRUGGLES
Oil prices stabilised on Tuesday after Kuwait's oil minister said OPEC was in talks to boost oil production, although concerns remained about possible further disruptions in supplies due to unrest in the Middle East and North Africa.
Analysts said this triggered selling in the Swiss franc, with traders also citing franc selling by Middle Eastern names.
The dollar jumped as much as 1 percent against the Swiss franc before pulling back to 0.9343 francs on EBS.
The euro traded at 1.2972 francs, having hit a two-week high of 1.3041 francs on EBS.
"There's been stabilisation of oil prices ... so there's a backing off in risk aversion related to Middle East tension," said Adam Meyers, senior currency strategist at Credit Agricole. "That backing off has caused the Swiss franc to slide." (Reporting by Nick Olivari, Additional reporting by Naomi Tajitsu in London, Editing by Chizu Nomiyama)
